Jennifer Blouin, Harry Huizinga, Luc Laeven, Gaëtan Nicodème, 29 March 2014

Multinationals take advantage of heterogeneity in tax deduction rules by reallocating debt to high-tax countries. This reduces tax revenue and distorts the trade-off between debt and equity financing. Some countries have enacted thin capitalisation rules that restrict deductibility when the debt-to-leverage ratio exceeds a certain threshold. This column provides evidence that such rules are only effective when restrictions are automatic, rather than allowing for government discretion.

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